Should You Roll Over a 401(k) to an IRA?

If you’re thinking about leaving your current job, you have many things to consider. Is it the right move for your family? Will you be gaining or losing benefits? It also raises one very important question—should I roll over my 401k to an IRA.

I’ve been faced with the same decision three times. The first was when I left my law firm. I had two retirement accounts (one as an employee and one as a partner) with Fidelity. I left both accounts with Fidelity because I liked the investing options. The second time was when I left an in-house job at an IT consulting firm. The investment options there were not so good, so I rolled over the 401k into an IRA with Vanguard.

I did a lot of research when faced with the decision for a third time, after quitting my job. From the beginning, I was certain that I would roll over my 401k to my Vanguard IRA, mainly because of the lousy investment options in the 401k. As I had spent some serious time researching the issue, I thought I’d share what I found along the way.

Investing Options

Investment options within your 401k plan are the first and most important consideration. Many employer-sponsored plans have limited investment options. Other employers stuff their plan full of alternatives, most of which are bad choices. That was the problem with my last employer. While there were literally hundreds of mutual funds to choose from, all but one or two were just awful.

A related but equally important consideration is cost. It’s not enough that a 401k offer sound investment opportunities, they have to offer them at a reasonable cost. My rule of thumb is to keep the weighted average cost of all mutual funds and ETFs to 50 basis points or less. As I rolled over my 401k and rebalanced my investments, my goal was to try to get the total cost to under 20 basis points. There was no way I could reduce the costs to this level unless I rolled over my 401k.

Taxes

There are some tax implications to consider, particularly if you are toying with the idea of a withdrawal before age 59 ½. As this article from Oblivious Investor explains, you may be able to make withdrawals at age 55 from a 401k without the 10% penalty. As always, consult your tax advisor before making any decisions.

Resource: 5 Ways Retirees Can Avoid Early Withdrawal Penalties

Simplicity

It’s much easier to manage fewer investment accounts. Change jobs a few times and throw in an IRA for good measure, and you’ll find yourself managing more retirement accounts than you can handle. Rebalancing your investments across multiple accounts is a real chore, too, as I quickly learned firsthand.

Between retirement and non-retirement accounts, and my accounts at Lending Club and Betterment, I felt like the guy trying to keep a dozen plates spinning on top of wooden rods at the circus. Rolling 401k accounts into a single IRA reduces the number of spinning plates you have to keep from breaking.

Roll Over Options

There are two primary options—mutual fund companies and online brokers. Both are good choices. The best choice for each individual often depends on what investment choices they plan to make. If you plan to buy all Vanguard funds, for example, opening an IRA account with Vanguard will be the most cost efficient option.

On the other hand, if you plan to invest in a variety of funds, ETFs, stocks and/or bonds, a discount broker is a better choice. That’s what I did with my SEP IRA, which I have with Scottrade. You can check out our list of the best brokers for IRA retirement accounts.

In the end, I believe that for most people most of the time, a rollover IRA is the best choice. But as with anything this important, weight the factors carefully and seek the help of a tax or investment advisor if necessary.

If you’re looking at what exactly you need to do for your own rollover, check out our easy 5 step guide. And if you have any other questions or tips for other readers, please let them in the comments below!

Here are some additional resources I found helpful:

  • Emily Brandon of U.S. News published an informative article discussing IRA and 401k accounts worth reading. One interesting fact is that the vast majority of money in IRA accounts today came from 401k rollovers, not direct investments.
  • Kathryn A. Walson at Kiplinger offers a helpful discussion of whether you should roll over a 401k. One factor she mentions is that with an IRA, you can withdrawal you money anytime you want, albiet with a possible 10% penalty. With a 401k, withdrawal options vary from one employer plan to another, and if you do take out money, you may be forced to take it all out.
  • Pinyo over at Moolanomy gives you the nuts and bolts of rolling over a 401(k) to an IRA.

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9 Responses to “Should You Roll Over a 401(k) to an IRA?”

  1. I’d suggest that the GENERAL rule of thumb is ROLLOVER. The SPECIFIC rule is you better have a superior reason for not doing it.

    Rationale:

    (1) 401Ks have sponsors (your old employer) and providers (e.g., Fidelity; Vangard; others) rarely does this relationship not have its conflicts. The literature is replete with examples of often illegal activities. You have to be very skeptical of what decisions are being made for you.

    (2) Fees. You don’t know all the fees and guess who pays them.

    (3) Investment options. Always limited by comparison. I’m a perma bear! (Have you seen what the US Gooferment has done to the money, the debt, the deficit, the spending, and the entitlements? And, you think this is going to be good!) Try and put your retirement money into gold. You can in certain IRAs.

    (4) As a bear, I am interested if my retirement savings retain their value. A nice account denominated in Swiss Francs or Chinese Yuan would be comforting. How sure are you that you’re going to keep your wealth?

    (5) If you have multiple accounts, and you have multiple mutual funds labeled GROWTH and or VALUE, how in heaven’s name will you diversify. They could be investing in the same stuff wildly increasing your risk. They could be even taking opposite sides of the same bet. So you’re paying fees to bet both red and black.

    (6) Underlying the whole proposition is the trustworthiness of the “casino”. At least with an IRA, you’re picking your poison.

    As a bear, I think the days of “invest in anything cause it all appreciates” are over. I remember the Sixties bear, and have grandfolks who lived through the Great Depression. They were scared. And so should we be.

    BTW did I mention I like the Tea Party and “vote the bums out” strategy. Cutting Gooferment drastically is the only way to save the economy and our retirement money. We need more producers and less drones / vampires in DC.

    imho ymmv fwiw

  2. In my opinion, whether or not to rollover a 401k to an IRA ultimately comes down to the individuals willingness to manage the accounts. Often, an IRA can require more effort on the part of the individual to prudently manage the funds in the account. This is due in large part to the typically expanded offering of investment options available, which can require greater due diligence on the part of the individual investor. If an investor is not confident in their own ability to manage the funds or willing to seek professional advice, it could make sense to maintain the funds in the 401k. Another option may be to explore combining the 401k of a previous employer with the 401k of a current employer (if allowed by current 401k plan). This could at least help lessen the burden of managing accounts at each of your previous employers.

    Randy Schaller
    Smart401k

  3. Mrs. Picky Pincher

    I switched jobs a bit in the last few years so I finally decided to open an IRA with my bank. I’ve never gotten an employer match before, so it makes more sense for me. I also like the flexibility that comes with a Roth IRA.

  4. Chuck Wagner

    Further references:
    Nolo Press: Can Judgment Creditors Go After My Retirement Accounts?
    http://www.nolo.com/legal-encyclopedia/can-judgment-creditors-go-after-my-retirement-accounts.html

    The Tax Adviser: State-by-state analysis of IRAs as exempt property
    http://www.thetaxadviser.com/content/dam/tta/issues/2014/jan/stateirachart.pdf
    (Look for the exemption amount even where the “IRA Exempt” says yes. For example, Maine only protects $15k of your IRA.)

  5. Anthony Riley

    Rob,
    You completely ignored one major advantage of 401k over IRA! In most cases, 401(k) funds qualify for creditor protection under a federal law known as ERISA (the most notable exception to this rule is if you are operating a solo 401(k) plan). ERISA contains a special clause, known as the anti-alienation provision, which basically blocks your 401(k) money from the reach of most creditors. Typically, the only people who can get a piece of your 401(k) money while it’s inside of its protective “ERISA shell” are the IRS and an ex-spouse as part of a divorce proceeding. Other than that, your 401(k) creditor protection shield is virtually impenetrable.

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